When I wrote about Concord Medical Services (CCM) back in June 2013, the stock was trading around $4. The stock has increased about 45% since then to $5.89. Despite this sizable gain, Concord is still significantly undervalued relative to the S&P 500 and the broader overall market. The company has the advantage of being a small-cap with high growth potential. I will explain the growth catalysts for the company and how large the opportunity is for investors.
Concord Medical's large network of radiotherapy and diagnostic imaging centers helps many of the 3.5 million people who have cancer in China. In 2012, cancer was the leading cause of death in China, accounting for 2.5 million deaths. The factors that have likely led to this prevalence are pollution, tobacco usage, and an ageing population. As of November 2013, Concord has grown its network to 144 centers with 78 hospital partners in 55 cities in China.
There are a number of catalysts that are likely to allow Concord's stock to continue rising:
1. The specialty cancer hospitals that Concord operates are in high demand due to the growing prevalence of cancer in China. These hospitals are more profitable than general hospitals. The government policy in China encourages investments in the high-end and specialty hospitals that Concord operates. In response to this situation, Concord has plans to build three premium cancer hospitals in Beijing, Shanghai, and Guangzhou. The Shanghai medical center is expected to be operational by 2015. The Beijing and Guangzhou facilities are expected to be open in 2016. Therefore, these facilities offer some long-term value for investors as future revenue from them will be realized in 1 - 2 years.
2. There is some significant insider buying as indicated on page 23 of the latest investor presentation among the CEO, Dr. Jianyu Yang and COO, Mr. Zheng Cheng to acquire over 37 million ordinary shares and 4,660,976 American Depositary Shares. This will bring the combined ownership for these two executives up to approximately 48%. This shows that the top management is confident enough in Concord to continue to invest significant quantities of money in the company.
3. Concord's stock is still significantly undervalued. It is currently trading with a price to book ratio of 0.78. With the stock trading at 21% under its book value per share, there is plenty of upside remaining for the short-term and the long-term. The stock is likely to continue approaching its book value per share as revenue and earnings increase over the next few quarters. Concord also has a low forward PE of 13 and a PEG of just 0.77. Therefore, the company's earnings are expected to be higher than its PE ratio, suggesting that there are more gains in store for the stock.
4. Concord just declared that it will pay a special dividend of $0.24 per ordinary share or $0.72 per American Depositary Share. This represents a 12.2% yield at the current stock price of $5.89. The dividend is payable on January 30, 2014 to shareholders on record as of January 20, 2014. This is a special one-time dividend. Concord does not pay a dividend on a regular basis. However, this payment should bring in some new shareholders in the short-term and have a positive effect on the stock.
5. Patients in China are benefitting from wider coverage of government sponsored health insurance. As a result, more patients are visiting their local hospitals for diagnostic services such as MRIs and CTs. Concord Medical is seeing growing demand for these diagnostic services. Concord is also seeing growing demand from health-conscience high-end customers who have been paying out of pocket for high-end physical tests. Concord's diagnostic centers are a key source of increasing revenue for the company.
There is a possibility of corrupt business practices in the healthcare industry in China. This could be in the form of competitors engaging in corrupt practices to influence hospital decision makers to secure agreements or to increase sales. China does have anti-corruption laws in place. However, as competition increases, Concord's competitors could be tempted to cross the line in an attempt to gain a business advantage.
Competition itself remains a risk for Concord. Concord has the advantage of being the largest network of radiotherapy and diagnostic centers in China as measured by revenue and number of centers in operation. However, the company needs to remain vigilant in maintaining and growing its business so that it doesn't lose market share. I think that Concord is making the right decisions for the future with its new facilities to be built. The company needs to continue to make strategic decisions to keep its stronghold in the industry.
The current valuation has the stock undervalued by at least 21%. The short-term catalysts in place (increased demand for diagnostic services and more patients visiting Concord's facilities) should allow for 23% to 25% revenue growth for 2014. With the gross margin remaining in the range of 37% - 43%, Concord has the potential to grow earnings at 15% to 20% in 2014. The stock has the realistic potential to increase over 30% in 2014 as it approaches its book value per share and as investors respond to earnings growth. The 30% potential growth in the stock price is derived from an 18% expected increase in EPS in 2014 and a 12% increase in the valuation level (the price to book ratio rising from 0.78 to 0.87).
Over the longer term, once the stock price reaches the level of the book value per share, the stock can experience annual gains of 15% - 20% on earnings growth. The longer-term catalysts such as the three facilities under construction and the growing cancer prevalence in China should keep this growth going.